UNCTAD Book on FDI - PDF

UNCTAD BOOK MODULE 1: ECONOMIC ASPECTS OF FOREIGN DIRECT INVESTMENT THEME 1: Foreign Direct Investment and transnational corporations: concepts, definitions and measurement Introduction FDI can be defined as investing in a foreign location and engaging in...

UNCTAD BOOK MODULE 1: ECONOMIC ASPECTS OF FOREIGN DIRECT INVESTMENT THEME 1: Foreign Direct Investment and transnational corporations: concepts, definitions and measurement Introduction FDI can be defined as investing in a foreign location and engaging in economic activity there → characterized by cross-border control and the investor’s involvement in the management of resources invested. TNCs are firms that control assets in their home country as well as at least one other country, usually by owning a certain minimum stake in the capital stock. Growth in FDI + its role as external finance → firms increasingly find benefits in expanding their production internationally & host developing countries see potential advantages in FDI over other forms. 1. Concepts of Investment Investment is understood as a sum of money or other resources (including, e.g. knowledge or time) spent with the expectation of getting a future return from it. ○ In macroeconomics and national accounts: expenditure on new capital goods (goods that are not consumed but instead used in future production, eg: machine, equipment, factory, means of transportation). Such investment is the source of new employment and economic growth (from the manufacturing of goods) → ↑ productive capacity. ○ In finance: investment refers to the purchase or ownership of a financial asset with the expectation of a future return either as income (such as dividends), or as capital gain (such as a rise in the value of the stock). ↑ productive capacity in the case of newly issued assets.  Not ↑ productive capacity in the case of assets changing hands from one owner to another. ○ Legal definitions of investment: found in laws and legal agreements, focus on the issue of property, notwithstanding the productive or financial nature of the investment, unless specific limitations are made. FDI includes both national accounts and financial approaches. ○ National accounts approach Treats FDI as part of capital formation; expenditures on foreign assets are similar to domestic investments. Contributions to GDP highlight the economic role of foreign enterprises. ○ Financial approach Greenfield investments (new ventures) versus acquisitions (buying existing firms). Acquisitions provide quick market access but may impact local competition, while greenfield investments promote job creation and infrastructure. 2. Foreign Direct Investment: Concept and Definitions An investor obtains a lasting or controlling interest in a foreign entity → foreign direct investment. ○ Lasting interest → equity stake, at least 10% → An enterprise by a foreign investor is central to the concept of FDI → Distinguish it from other types of international investment. FDI is distinguished from other forms of international investment by two characteristics ○ FDI is made inside the investing firm → Control over the use of the resources.  ○ Apart from capital, FDI involves the transfer of other assets and resources, such as technology, management and other skills, access to markets, entrepreneurship. In many cases minority ownership can be sufficient to exercise control → ↑ non-equity form of FDI. ○ Subcontracting: An arrangement where a company hires another firm to perform specific tasks or services, often to reduce costs or enhance efficiency. ○ Management Contracts: Agreements in which one company provides management expertise to another, usually for a fee, without taking ownership or equity stakes → hotel industry ○ Turnkey Arrangements: Contracts where a company designs, constructs, and equips a facility, handing it over to the client when operational, for a pre-agreed payment. ○ Partnership agreements: give companies providing the brand names and proprietary technology → business consultancy & legal services ○ Franchising: A business model where a franchisor allows a franchisee to use its brand and operational methods in exchange for fees or royalties → fast food, car rentals and retail trade ○ Leasing: An agreement where one party (lessor) allows another party (lessee) to use an asset (e.g., equipment or property) for a specified period in return for periodic payments. ○ Licensing: A contractual agreement allowing a foreign entity to use a company’s intellectual property, technology, or trademarks in exchange for fees or royalties. ○ Production-Sharing: An arrangement where two or more parties collaborate in production, sharing the outputs and profits, typically seen in industries like oil and gas.  A foreign direct investor is an entity in one economy that acquires at least 10% of the voting power in a corporation or unincorporated enterprise in another economy. Types of investors: Can be individuals, groups of related individuals, incorporated or unincorporated enterprises, public or private enterprises, groups of related enterprises, government bodies, estates, trusts, or combinations of these. The existence of elements of a direct investment relationship may be indicated by ○ Representation on the board of directors; ○ Participation in the policy-making processes; ○ Material intercompany transactions; ○ Interchange of managerial personnel; ○ Provision of technical information; and ○ Provision of long-term loans at lower than existing market rates. Not considered FDI ○ Contractual arrangements: Building and managing a plant for a foreign client without an equity stake, providing a cross-border service. ○ Technical know-how agreements: Providing technical assistance and influence without equity in the foreign company. ○ Production agreements: Supplying machinery and training in a host country, but losing equity if the machinery becomes property of the host. ○ Professional service firms: Unaffiliated firms operating under a common brand without equity relationships do not qualify as FDI.  ○ Sales and representative offices: Activities like foreign sales offices are not treated as FDI unless they meet specific residency and economic contribution criteria. 3. Transnational Corporations and Related Concepts TNC is an enterprise that engages in FDI and owns or controls value-adding activities in more than one country. Parent Enterprise: An enterprise that controls assets of other entities in countries outside its home country, typically by owning a significant equity stake. Foreign Affiliate: An enterprise, incorporated or unincorporated, where an investor from another economy holds a stake (usually at least 10% for incorporated enterprises) that allows for lasting management influence. Subsidiary: An incorporated enterprise in the host country where the parent entity owns more than 50% of the voting power and can appoint or remove a majority of the management body. Associate: An incorporated enterprise in the host country where the parent entity owns between 10% and 50% of the voting power. Branch: An unincorporated enterprise in the host country that is wholly or jointly owned by the parent entity. International production in TNC home countries includes production by parent firms and their domestic affiliates in those countries, while international production in host countries includes production by foreign affiliates located in those countries. 4. FDI and Portfolio Investment FDI is undertaken with a view to control or exercise significant management interest over the enterprise → investors: producers of goods and services.  FPI is made with the expectation of a future return such as dividends or capital gain → investors: financial institutions, institutional investors or individuals. → Developing countries are cautious of FPI due to its speculative nature, preferring FDI as a more stable and productive option. 5. Modes of FDI Entry 2 main modes of FDI entry → depend on the industry, objectives and strategies regarding FDI and host country conditions. ○ Greenfield investment - in newly established enterprises → used when speed of entry and access to proprietary assets are not priorities. ○ Mergers and acquisitions (M&As) → the principal mode of FDI entry into developed countries → high speed & certain level of resources. Acquisitions of assets for non-profit purposes, not used in production ( for instance, buying a house) are not considered investment. 6. Measurement of FDI and TNC Activity The most common measures of FDI are flows and stocks. ○ FDI inflows and outflows → measured for the balance of payments relates to capital transactions between direct investors & their affiliates abroad. ○ FDI stock measures the accumulated value of capital owned by parent firms in their foreign affiliates. 6.1. FDI flow and stocks FDI flow: the value of all capital transactions between direct investors (parent enterprises) and their foreign affiliates during a given period. ○ FDI outflow: capital is provided to foreign affiliates either directly or through other related enterprises by investors based in the country.  ○ FDI inflow: capital is received by foreign affiliates from their parent firms, either directly or indirectly through other related enterprises. FDI flows have three components: equity capital, reinvested earnings and intra-company loans. ○ Equity capital is the direct investor’s purchase of shares of an enterprise in a country other than that of its residence. ○ Reinvested earnings comprise the direct investor’s share (in proportion to direct equity participation) of earnings not distributed as dividends by its foreign affiliates, or earnings not remitted to the direct investor. ○ Intra-company loans or intra-company debt transactions: short or long-term borrowing and lending of funds between direct investors and their foreign affiliates. Net Decreases in Assets (Outward FDI) ○ Represented as credits in the balance of payments. ○ Recorded with a positive sign. Net Increases in Liabilities (Inward FDI) ○ Also recorded as credits in the balance of payments. ○ Recorded with a positive sign. Net Increases in Assets ○ Represented as debits in the balance of payments. ○ Recorded with a negative sign. Net Decreases in Liabilities ○ Also recorded as debits in the balance of payments. ○ Recorded with a negative sign. Outward FDI stock is the sum of the FDI stocks of parent enterprises based in the country.  Inward FDI stock is the sum of FDI stocks held in foreign affiliates located in the country by their parent enterprises abroad. 6.2. Other measures of TNC activity Data on sales, gross product, assets, exports and/or employment of foreign affiliates of parent firms based in the countries, and of the TNC parent firms themselves, on the basis of company surveys. 7. Financial Crisis and FDI Global FDI Decline: The financial crisis led to a 14% drop in global FDI flows in 2008, with continued declines into 2009. Developed Countries: Experienced sharp declines in FDI inflows and outflows, especially after the Lehman Brothers collapse. Developing & Transition Economies: Initially saw record FDI levels in 2008, but inflows began to decline as the crisis deepened. Equity Investments: The significant drop in equity investments indicated a longer recovery period for FDI. Resilience in Developing Countries: FDI in developing countries proved more resilient than other capital flows, supported by long-term investment nature and growth in countries like China and India. THEME 2: International production: long-term trends and current patterns 1. What is international production? International production refers to the production of goods and services in countries under the governance of firms – called TNCs. TNCs govern production systems across different countries, involving the movement of goods, services, and production factors among their various units. These systems cover a range of activities, including resource extraction, manufacturing, and services like accounting, marketing, software development, R&D, and training.  International production includes all activities within TNC-governed systems, with home countries viewing it as production by domestic firms abroad and host countries seeing it as production by foreign firms locally. The primary measure of international production is through FDI, which tracks both stocks (accumulated capital) and flows (annual changes). While FDI data enables inter-country comparisons, other production data (e.g., sales, output, employment) is often limited and excludes non-equity arrangements. 2. The increasing importance of international production Trade was the primary means of countries' integration with the global economy until recently; international production is a fairly new phenomenon. Post-World War II, coordinated international production was rare, but by the mid-1950s, it began to outpace trade, exceeding it by 1976. In the last two decades, international production associated with TNC governance has grown faster than national economic aggregates. By the early 21st century, global sales of foreign affiliates were nearly twice the amount of global exports. In 2008, the gross product from foreign affiliates was about 10% of global GDP, up from 5% in 1982. TNCs account for two-thirds of world exports, with one-third from parent companies and one-third from foreign affiliates, and intra-firm trade makes up one-third of total world trade → Overall, TNCs play a larger role in global trade and technology than in production, investment, and employment. Many TNCs are small and medium-sized enterprises (SMEs), and those from developing countries are becoming increasingly significant in international production.  FDI stocks and flows serve as proxies (thay the) for international production due to a lack of systematic data, with both growing rapidly and the FDI/GDP ratio increasing from 1980 to 2008. FDI flows are cyclical, declining during economic recessions, while FDI stock grows more slowly during these periods, contributing to overall stock as long as flows remain positive. 3. M&As increasingly drive FDI Cross-border M&As are now major drivers of FDI, with their share rising from 52% in 1987 to 83% in 1999 → quick market entry, access to valuable assets, potential financial gains, and personal objectives of managers. Most M&As occur between developed countries, historically led by the U.S. TNCs, with increasing participation from EU firms. Developing countries' share of global M&As grew from 2% in 1987 to 15% in 2006, influenced by privatization and financial crises. FDI flows and M&As are cyclical, declining during economic downturns but recovering together. M&As raise concerns about economic development, as they shift ownership without adding capacity and can lead to layoffs and market dominance by foreign firms → may threaten national culture and sovereignty, and concerns about M&As reflect broader issues of globalization and inequality. 4. The growth of non-equity relationships Non-equity relationships, like technology licensing, are crucial for global firm expansion, often providing access to TNC technologies without traditional FDI. ○ Franchising agreements: International restaurant networks, especially fast-food networks, car rentals and retail trading networks. ○ Management contracts: the hotel industry (together with equity forms)  ○ Partnerships: business services such as accounting, business consultancy, engineering or legal services. TNC acquisitions can reduce local R&D activities, relocating research to home countries. Foreign investments in Latin America have raised nationalistic concerns over economic sovereignty. The number of international agreements among firms rose significantly, indicating their importance alongside traditional FDI. Firms engage in inter-firm agreements for knowledge sharing/better access to technology → innovation & streamlining resources, focusing on core competencies → outsource non-core activities, enhancing globalization. Technology agreements grew from 1980-1996, especially in knowledge-intensive industries like IT and pharmaceuticals → dramatic changes in the technological environment: predictable & stable → more dynamic & variable. ○ Rapid patterns of demand changing ○ Faster innovation → ↓ Product life cycle ○ New manufacturing techniques Inter-firm agreements complement FDI and M&As, with firms seeking various assets, including market access. TNCs focus on core competencies, leading to extensive outsourcing → complex structure of international production → the rise of contract manufacturing (outsource the entire manufacturing function for individual product lines). The contract manufacturing market, especially in electronics, is expected to grow significantly. TNCs maintain control over production processes and standards to ensure quality in global supply chains. 5. The sectoral composition of FDI Recent rapid growth in foreign direct investment (FDI) is mainly driven by the services sector, leading to a shift in the sectoral composition of global FDI away from primary sectors and manufacturing, which dominated in the 1950s. While FDI in extractive industries has increased since 2004 due to rising mineral demand from Asia and increased prices, the long-term trend has favored services → driven by investments in non-tradable services, which must be produced locally. Inward FDI in services increased significantly in both developed (49% to 64%) and developing countries (48% to 70%) from 1990 to 2007. Conversely, the share of manufacturing in global FDI fell from 41% in 1990 to 28% in 2007, with a more pronounced decline in developing countries (from 28% to 24%). The primary sector's share also decreased slightly from 9% to 8%, with mining and petroleum attracting the most FDI within this sector. Some services (e.g., insurance, retail banking) require local establishment due to host-country regulations. While financial and trading services initially dominated FDI, their share decreased from 65% in 1990 to 48% in 2003, while new service industries saw significant growth. The late 1980s and 1990s brought liberalization and privatization in service sectors, enhancing competition and efficiency. The transnationalization of services still lags behind manufacturing. Advances in information technology are enhancing the tradability of information-intensive services, allowing for further FDI growth. A large portion of future cross-border outsourcing will occur in service sectors like IT and logistics, indicating a new international division of labor.  FDI in agriculture tripled to $3 billion annually between 1990 and 2007, with significant contributions to capital formation in low-income countries. TNCs engage in contract farming in over 110 developing economies, covering a wide range of commodities. Developed-country TNCs dominate agribusiness value chains, while South-South FDI is also important. TNCs improve agricultural productivity through technology transfer, access to credit, and market links, enhancing food security. Governments should create policies to maximize benefits from TNCs, address social/environmental concerns, and promote contract farming for local farmers. Output-sharing and transparency in land acquisitions are key to ensuring food security and preventing "land grabs." Public-private partnerships can drive agricultural innovation, especially in Africa, by adapting technologies to local needs. 6. Changing geography of FDI 6.1. Home countries: less concentration After WWII, outward FDI was dominated by the US and Western European colonial powers. In 1960, the US held 50% of global FDI stock, followed by the UK, the Netherlands, and France. The geographical diversity of outward FDI expanded in the following decades, with the US share declining to one-fifth by 2008, and other countries like Japan and developing nations increasing their share. Japan’s FDI rose sharply in the 1980s but declined due to economic stagnation in the 1990s, though it remains a significant player. TNCs from developing countries emerged in the 1970s and 1980s, particularly from Asia. Their FDI share grew from 3% in the 1980s to 17% by 2005, with countries like South Korea, Taiwan, and China leading the trend.  Developing countries' share of greenfield and expansion projects exceeded 15% in 2005, with many firms moving operations to competitive locations. The EU’s share of global outward FDI grew from 38% in 1980 to 52% in 2006, with France, the Netherlands, and the UK as dominant contributors. New EU members, such as Spain, Italy, and Sweden, significantly increased their FDI shares between 1980 and 2001. Developing Asia has seen steady growth as a major FDI source, alongside tax havens like the British Virgin Islands. 6.2. Host countries: more balanced distribution Inward FDI has always been more diverse than outward FDI, as many countries offer attractive location advantages like natural resources or large markets. The US became the largest host country for FDI in the 1980s, maintaining its lead, with 15% of global stock in 2006. China rose from 17th in 1980 to 4th in global inward FDI by the 2000s, driven by investment from developing Asian countries. Central and Eastern Europe emerged as a significant FDI destination in the 1990s, increasing its share from virtually zero to 2.6% by 2002. The EU increased its global inward FDI share from 31% in 1980 to 37% by 2001, becoming the largest host region with three times the US stock by 2006. There's been a shift in FDI from resource-rich countries like Canada and Australia to industrialized nations, especially the US and Europe. Asia, especially South, East, and Southeast Asia, has become a primary destination for FDI, replacing Africa and Latin America.  6.3. Host developing countries: the shift towards Asia FDI inflows to developing countries have steadily increased from 1970 to 2005, with an annual average of US$210 billion during 2001-2005. Despite fluctuations, developing countries consistently received around 30% of global inflows during this period. In the 1970s, Latin America, particularly Brazil, was the largest host region for FDI in developing countries. However, Asia surpassed Latin America in the following decades, with China emerging as the top host country in the 1990s. The 1980s were a challenging period for Latin America due to economic crises, while many Asian countries, experiencing rapid economic growth, attracted more FDI. Latin America rebounded in the 1990s, opening its service industries to FDI, but Asia, especially China, continued to dominate FDI inflows. Africa, although seeing growth in absolute FDI inflows, did not match the growth rates of Asia and Latin America. By 2006, Asia accounted for 60% of the FDI stock in developing countries, Latin America for 25%, and Africa for just 12%. 7. The transnationality index of countries Inward FDI is becoming more geographically distributed, but it remains concentrated in specific countries. The top five host developed countries hold 70% of inward FDI stock, while the top five developing countries hold 60%, and the top ten account for over 70%. Between 1990 and 2001, the top ten host developing countries consistently accounted for 70-80% of FDI inflows. FDI concentration ratios can create the impression that many countries, especially developing ones, are marginalized in international production.  UNCTAD's transnationality index provides a more accurate picture, considering: ○ FDI inflows relative to gross fixed capital formation, ○ FDI stock as a share of GDP, ○ Value added by foreign affiliates relative to GDP, ○ Employment in foreign affiliates relative to total employment. Smaller countries often rank higher on the transnationality index compared to their FDI stock rankings, indicating their deeper involvement in international production. Out of the top ten developing FDI host countries, only Hong Kong (China), Singapore, and Chile are also in the top ten of the transnationality index. Smaller developing countries, like Trinidad and Tobago, Panama, and Costa Rica, are more engaged in international production relative to their size than large countries like China. In developed countries, smaller EU nations like Belgium, Luxembourg, and Ireland dominate the transnationality index, while the U.S. ranks much lower at 19th. Overall, the transnationality index provides a more nuanced view of countries’ involvement in global production than FDI concentration ratios alone. THEME 3: Determinants of Foreign Direct Investment 1. Key factors determining FDI The OLI paradigm explains FDI through three factors: ownership advantages, location advantages, and internalization. Firms prefer FDI when they can leverage these advantages, and governments can attract FDI by enhancing location benefits. 2. Firm-specific determinants of FDI Firms need ownership-specific advantages, like technology or expertise, to compete with local firms and engage in FDI. They choose FDI over external transactions when internalizing production offers greater benefits, especially in imperfect markets. As countries develop, they first attract inward FDI and later see their own firms investing abroad as their competitive advantages grow. 3. Host-country determinants of FDI 3.1. Economic determinants 3.1.1 Natural resources Historically, natural resource availability was the primary driver of FDI. However, its importance has declined since the mid-1970s due to the rise of local enterprises. Despite this decline, resource availability continues to attract FDI in resource-rich countries, with production costs and infrastructure also becoming key determinants for resource-seeking investments. 3.1.2. Markets A key economic determinant of inward FDI is firms' motivation to access new markets or increase market share. Important factors for market-seeking FDI include market size and growth, as larger markets enable economies of scale. Historically, protective tariffs led to "tariff-jumping" FDI in manufacturing. Although the opening of markets has reduced the importance of large national markets, access to regional markets remains attractive for FDI, particularly for non-tradable services that require proximity to customers. 3.1.3. Efficiency-related factors Efficiency-seeking FDI aims to optimize production by utilizing cost and resource differences across countries, employing vertical and horizontal integration strategies. This type of investment depends on well-developed cross-border markets and is influenced by trade liberalization and regional integration, with key determinants varying based on TNC strategies.  3.1.4 Low-cost unskilled labor TNCs pursue efficiency-seeking FDI in developing or transition economies with low-cost unskilled labor, a trend that gained momentum in the 1960s with globalization. To attract such investments, host countries must offer not only low labor costs but also reliable supply, productivity, infrastructure, and access to international markets, along with favorable FDI policies. 3.1.5 Created assets Capabilities and infrastructure are crucial for efficiency-seeking FDI by transnational corporations (TNCs). TNCs enhance competitiveness by specializing production activities in optimal locations, seeking skilled labor and technological capabilities. Access to knowledge-based resources and efficient infrastructure, like transport and telecommunications, is essential for attracting such investments. 3.1.6 Agglomeration economies TNCs in knowledge-intensive industries are attracted to spatial clusters that offer agglomeration economies and knowledge exchange. Efficiency-seeking FDI is increasingly integrated into global production strategies, allowing TNCs to assign production processes to specialized affiliates. Locations with diverse resources and created assets thus draw FDI for various value-added activities 3.1.7 Strategic assets The fourth group of host-country determinants involves strategic, asset-seeking FDI by TNCs aiming to enhance competitiveness through mergers and acquisitions of foreign firms. This type focuses on acquiring firm-specific assets like technology and brand names, expecting benefits such as new market access and cost efficiencies. Strategic and efficiency motivations often overlap, attracting TNCs to competitive firms in host countries. 3.2. The role of policies as determinants of FDI 3.2.1 The national policy framework While economic factors are vital, host-country policies also significantly affect FDI. Investment cannot occur without permission from national regulations, and liberal policies alone cannot guarantee FDI if essential economic conditions are absent. Core FDI policies govern foreign investment operations, while broader policies related to trade, taxation, and macroeconomic stability indirectly influence FDI. Both core and surrounding policies play crucial roles in shaping the investment environment. 3.2.2 Core FDI policies and FDI location Core FDI policies govern foreign investment by establishing entry rules, ownership standards, treatment guidelines, and protection measures. These policies aim to influence FDI volume and impact, but their effectiveness relies on strong market supervision. Since the mid-1980s, many countries have liberalized FDI policies, yet outcomes vary. Open policies are essential but insufficient without supportive economic conditions, and preferential treatment for foreign firms remains common. 3.2.5 Other national policies affecting FDI location - Trade policy - Privatization policies allowing foreign investment in state-owned enterprises enhance FDI opportunities by opening previously closed sectors. In industries with natural monopolies, such acquisitions attract investors due to limited competition, but managing competition issues can be challenging for developing countries. - Tax policy - Macroeconomic policies - Macro-organizational policies impact FDI by shaping industry composition and regional activities. Tax incentives can attract high-tech investments, while labor market regulations and the quality of education and health influence investment decisions and the attractiveness of a country for high-value FDI. 3.2.7 Bilateral investment treaties Bilateral investment treaties (BITs) protect investors and have increased since 1990. While they enhance FDI conditions, their impact on attracting new investments is limited, as economic factors play a more significant role. The rise in BITs may have reduced their effectiveness. 3.3 Business facilitation Liberalizing national FDI policies creates a fair investment environment for foreign investors, supported by proactive government measures like investment promotion and incentives. These efforts reduce business hassles and improve expatriate quality of life, making FDI more common and effective. The key functions of FDI promotion: - Image building - Investment generation and targeting - Investment-facilitation services - After-investment services - Policy advocacy 3.3.2 Incentives and other measures Incentives are economic advantages offered by governments to attract FDI or direct it toward preferred sectors. They include financial aid, tax breaks, and other benefits. While they can influence investment decisions, they are not typically the main factor and can lead to significant government costs. Critics argue that fostering a favorable investment climate is a more effective strategy than relying on incentives. Business facilitation measures for FDI focus on reducing "hassle costs" and improving the quality of life for expatriate personnel. Reducing hassle costs addresses bureaucratic inefficiencies and delays that impose hidden expenses on investors. Enhancing the quality of life, including social amenities like bilingual schools, is crucial as it influences foreign investors' decisions about where to establish operations and relocate personnel. THEME 4: FDI and development 1. The role of FDI in development (a) The reigning orthodoxy in neo-liberal economics FDI is necessary for the development of the Third World. Without FDI there will be no growth. FDI brings inter alia efficient management of resources,technology, a culture of competition, and access to global markets. Nobody is forcing the South to seek FDI;the governments themselves want it. The private sector is the engine of growth; hence countries in the South must deregulate their economies, and privatize State assets as fast as possible. (b) FDI is neither good nor bad; it all depends on how you deal with it (c) Aid created debt crisis; FDI will create an even greater crisis of development d) FDI is not a development tool at all; it is a response to systemic crisis of the developed countries 2. Increasing financial resources and investment 2.1 Impact on financial resources for development FDI is the main source of foreign savings for developing countries, enhancing stability and complementing domestic savings, with retained earnings making up about 30% of flows. It impacts economic growth and the balance of payments, potentially causing income outflows. While concerns over transfer pricing have decreased, they remain a risk for host countries. 2.2 Impact on investment FDI directly impacts host country investment by bringing in foreign savings for local firms while also influencing domestic investment indirectly. The value of investment by foreign affiliates often exceeds FDI inflows, as firms can also raise funds from local and international markets. FDI can crowd in domestic investment by creating new opportunities or crowd out local firms by entering saturated markets. The overall effect varies based on local conditions and linkages between foreign and domestic enterprises. 2.3 Conclusion and policy implications Although developing nations strive to attract FDI to supplement domestic resources, it typically represents a small portion of total investment. Governments can implement various measures to attract FDI, including creating a conducive policy framework and reducing regulatory barriers. Despite liberalization trends, many countries still impose administrative hurdles that can deter investment. Proactive strategies, such as investment promotion and incentives, can improve FDI attraction. National policies should focus not only on attracting FDI but also on maximizing its positive impact on host countries. 3. Enhancing technological capabilities 3.1. Technology transfer Leading TNCs are key innovators, transferring advanced technologies to foreign affiliates through FDI. These technologies are typically more advanced than those in developing host countries. While internalized transfers are often cheaper and faster, they can limit local firms' ability to absorb and adapt technology, potentially hindering local innovation. TNCs may control technologies tightly, which can restrict deeper learning and spillover benefits for the host economy. Successful technology building, as seen in countries like South Korea and Taiwan, often relies on externalized transfers. Therefore, enhancing local skills and infrastructure is crucial for maximizing the benefits of FDI technology transfer. 3.2. Technology diffusion FDI enhances host countries' technological capabilities through technology diffusion and spillovers, which occur via competition, cooperation with local firms, labor mobility, and proximity. The effectiveness of these spillovers varies based on local conditions and TNC strategies. While they can boost local productivity, negative effects may arise from predatory practices. Strengthening local suppliers' capabilities is vital for maximizing spillovers, with successful examples in Singapore and Taiwan focusing on technology support services and local enterprise networks. 3.3 Technology generation FDI can boost technology generation and innovation in host countries when TNCs localize their R&D. However, TNCs mainly centralize R&D in their home countries, limiting foreign-affiliate R&D in developing nations to production support. Most developing countries lack the necessary research capabilities, but this is changing as more attract advanced R&D due to an increase in educated talent. 3.4. Conclusion and policy implications The transfer and diffusion of new technologies through FDI significantly contribute to host-country development by enhancing technological and innovatory capabilities. The effectiveness of this impact depends on local education, skills, technological infrastructure, and the competitiveness of the host environment. Higher local capabilities and competition improve technology transfer quality, fostering greater diffusion and attracting R&D from TNCs. Governments can enhance this process by implementing policies to attract FDI in high-tech industries, encouraging linkages between TNCs and local suppliers, and promoting local R&D. 4. Boosting export competitiveness and trade International trade supports economic development through specialization, exports, and foreign exchange. FDI and TNCs help developing countries enhance exports and competitiveness. However, FDI can also raise imports, with mixed effects depending on local capabilities. 4.1 Impact on export competitiveness The main effects of FDI on the export competitiveness of host countries arise from their role in exploiting the static comparative advantages of host countries, building dynamic comparative advantages, providing access to international markets, and raising local links to export markets - Exploiting static comparative advantages: FDI helps developing countries use their resources and labor for exports but relies on host countries to improve education and skills to sustain long-term growth. Without this, export growth may stagnate. - Creating dynamic comparative advantages: TNCs can create dynamic comparative advantages by introducing new skills and technologies in host countries with strong education systems. In more developed nations, they may boost innovation through R&D centers and partnerships with local research institutions. - Providing access to international markets: Successful exporting needs competitive products, marketing, and market access. FDI aids with established brands but may limit market choices for foreign affiliates. - Increasing local firms’ links to international markets.: FDI links local suppliers to global markets, enhancing exports in developing countries. Non-equity TNC participation, like franchising, boosts export capabilities. 4.2 Conclusion and policy implications FDI boosts export competitiveness in developing countries by utilizing existing advantages and enhancing market access, though effectiveness varies. Supportive policies and sound macroeconomic management are crucial for maximizing TNC contributions and tailoring measures to exploit FDI's potential for exports. Policies and measures must also address the common issues of liberalizing FDI and trade regimes; attracting export oriented FDI and upgrading TNC activity; and strengthening domestic skills, capabilities and institutions 5. Generating employment and strengthening skills Employment quality and skills drive development by boosting output and wages, especially in high-value sectors. This is essential for equitable income distribution in developing countries. FDI aids job creation and capacity building, influenced by FDI type and local policies. 5.1 Employment generation TNCs influence employment through their strategies, with efficiency-seeking FDI targeting low-cost labor and market-seeking FDI focusing on market access. FDI creates jobs directly through new affiliates and indirectly via local suppliers, but mergers and acquisitions may not generate immediate jobs and can lead to layoffs. Overall, FDI's impact on employment in developing countries is increasing, particularly in manufacturing, despite some negative effects. 5.2 Impact on quality of employment FDI affects employment quality through wages, job security, and working conditions. Foreign affiliates generally pay higher wages, especially in skilled sectors, but some labor-intensive jobs may pay less. They usually offer greater job security, though low-wage motivations can lead to insecurity. Working conditions are often better, as large TNCs typically follow labor standards, but this may not apply in low-end industries where regulations are relaxed. 5.3 Enhancing skills TNCs train employees in host countries to improve skills but risk losing them to other firms. They also influence local suppliers to enhance training. While developed-country TNCs offer better training, those focused on low-cost labor invest less and may relocate due to rising labor costs. 5.3. Enhancing skills TNCs improve employee skills through training to secure returns, but workers may leave. Developed-country TNCs typically offer better training, while low-cost labor firms invest less and may relocate. 6. Effects in other areas: environment and competition 6.1. Protecting the environment Environmental protection is essential for sustainable development. FDI influences employment quality, and TNCs must manage resources responsibly. Governments can enhance positive environmental impacts through effective policies and international agreements. 6.2 Market structure and competition FDI influences market structure and competition, increasing the number of firms initially but potentially raising concentration as inefficient firms exit. While TNCs can improve product quality and innovation, effective competition policies are essential, particularly regarding foreign acquisitions of monopolies. MODULE 2 THEME 1: Key national FDI policies in host developing countries 1. National FDI policies: main objectives and measures Main objectives of host countries’ policies on FDI: ○ Attracting FDI ○ Ensuring host countries derives full economic benefits from FDI ○ Addressing concerns about the potential negative effects of FDI on the host economy  FDI policies: ○ policies directly related to FDI -> core (policies, rules, regulations regarding the entry and operations of foreign investors, the standards of treatment accorded to them, investment promotion, etc) ○ Policies indirectly related to FDI -> outer circles To achieve its objectives, country uses measures related to one or more of the core FDI policies ○ Measures used to achieve one objective may overlap or conflict with those required for achieving another 1.1. Attracting FDI - Reducing obstacles to FDI: removing restrictions on admission and establishment or operations of foreign affiliates -> Key issue: how investment is to be defined for liberalizing entry or offering protection and what kind of control should be exercised over FDI admission and establishment (cách định nghĩa về đầu tư -> ảnh hưởng đến việc các nhà đầu tư dễ dàng thâm nhập vào thị trường hoặc được bảo vệ đầu tư ra sao Kiểm soát đối với việc chấp nhận và thiết lập FDI -> ai có thể đầu tư và đầu tư như thế nào -> ảnh hưởng đến sự cân bằng giữa việc khuyến khích FDI và bảo vệ doanh nghiệp trong nước) - Improving standards of treatment of foreign investors: grant them non-discriminatory and sometimes better, treatment vis-à-vis domestic or other foreign investors -> Key issue: what degree of national treatment should be granted to foreign affiliates once they are established in a host country - Protecting foreign investors: compensation in the event of nationalization, expropriation, dispute settlement and on guarantees for the transfer on funds  - Promoting FDI flows: improve the country’s image, provide information on investment opportunities, provide incentives, facilitate FDI through specific institutional and administrative mechanisms or provide post-investment services. 1.2. Benefiting from FDI - Foreign investors respond to investment opportunities according to their strategies with the objective of profit, and the outcome may not necessarily benefit a host-country’s development to the extent or in the manner sought. - But policies can induce investors to act in ways that enhance the development impact – by the transfer of technology, enhancing local skills, the use of local suppliers and so on. - Main policies and measures by countries to maximize the positive contribution of FDI in development: Mandatory measures: ○ prescribe what foreign affiliates must do with respect to certain aspects of their performance that are related to the development objectives of the host country such as, to increase exports, to hire and train local workers or to transfer technology Encouraging foreign affiliates to act in a desired way, including offering incentives ○ Incentives are measures designed either toof an FDI undertake increase the rate of return king or to reduce its costs or risks (such as tax deductions, the provision of infrastructure, subsidies on inputs or preferential loans) -> Do not automatically impact FDI decision, in some cases, the cost for host country may exceed the benefits of the attracted FDI => host countries can influences foreign affiliates to behave in ways that enhance FDI benefits only if they strengthen their national capacities 1.3. Addressing concerns about the impact of FDI - Anticompetitive practices by foreign affiliates; - Volatile flows of investment and related payments with a negative impact on the balance of payments; - Tax avoidance and abusive transfer pricing by foreign affiliates; - Transfers of polluting activities or technologies; - Crowding out local firms and discouraging domestic entrepreneurial development; - Crowding out local products, technologies, networks and business practices with harmful socio-cultural effects - Concessions to TNCs, especially in export processing zones, regarding skilled labor and environmental regulations; - Influence on decision-making in economic affairs of the host country, with possible negative effects on industrial development and national security The main policies and measures used to address concerns regarding adverse impacts include: -.Restrictions relating to the admission of FDI and on the establishment and operations of foreign affiliates - Measures relating to the operations of foreign affiliates 2. Evolution of FDI policies (NOTE: UNCTAD phát hành đã lâu nên thông tin trends có thể chưa chính xác) - After WW2 -> countries were skeptical about the role of FDI :because (1) it favor state countries > Socialist countries; (2) decolonization in developing countries; (3) strategy of developing domestic enterprises) -> limit or exclude FDI inflows  - Trend toward FDI liberalization in 1990s (due to lessons learned from experience and growing competitive pressures in a globalizing economy) - Competition in attracting FDI among countries + Developed countries: not only allow but also try to attract and liberalize in sectors like services + Developing countries: major resources in economic development -> establish an enabling policy and regulatory framework with a view to encourage FDI to the maximum extent possible 3. Key issues in national FDI policies - Key issues: + How to define investment; + How to treat the entry of FDI and the subsequent operations of foreign affiliates (the most important question being that of “national treatment” before and after entry); + What protection standards to use for takings of property including nationalization or expropriation of foreign investors’ property as well indirect takings, and where to draw the line between regulatory takings and legitimate policy action; + What mechanisms to use for dispute settlement; + How to use performance requirements and incentives; + How to encourage the transfer of technology; + How to ensure competition, including the control of restrictive business practices by foreign affiliates. - The main question regarding the definition of investment in national laws and IIAs is not whether FDI should be defined as investment – it is what other investment should be also granted the same status: portfolio  investment (both equity and debt components), other capital flows (bank loans, non-bank loans and other capital flows), and various investment assets (both tangible and intangible) including intellectual property rights (IPRs) 3.1 National treatment Treatment of FDI with respect to its entry and subsequent operations of foreign affiliates is probably the most important issue related to national FDI policy. (a) What is the economic case for the liberalization of FDI policies? (b) What is the case for exercising control on FDI admission and establishment? (c) What are the main considerations for national treatment once TNCs have been allowed to enter an economy? Arguments for: - Pre-establishment national treatment for host countries: relates to the promotion of national enterprises and building and enhancing domestic capabilities. 1. Protecting infant entrepreneurship 2. Local technological strengthening 3. Exploitation of new technology 4. Greater spillovers 5. Footloose activity 6. Loss of economic control - Post-establishment national treatment: on grounds of market and institutional failures:  1. Foreign affiliates tend to be more efficient and may therefore be denied national treatment on “infant enterprise” grounds, provided the differentiation in treatment is for a limited period and local enterprises are able to become fully competitive. 2. Foreign affiliates may have advantages over local firms, not because they are more efficient but because markets for credit, skills and so on are segmented and give them better terms simply because of their foreign ownership. But offering better terms to local firms to offset the adverse effects of market segmentation is a second-best solution and, moreover, segmentation is difficult to distinguish from healthy commercial practice. 3. Foreign affiliates may need to be restricted from privileges that give them access to sensitive strategic information or technologies, or to activities of cultural and social significance. (e.g. privileges regarding access to defense-related activities) → give to national firms. 4. foreign affiliates may become dominant and abuse their market power. Preventing this by discriminatory treatment is a second-best solution. The best solution would be to strengthen competition policy. As the above arguments indicate, there are several reasons why governments prefer to retain the freedom to impose controls on FDI entry and exercise flexibility according to national treatment in the post-establishment phase. - Main questions that arise relate to treatment standards. When are two situations really alike? When is treatment “less favorable” to the foreign investor? What is the policy justification for the alleged difference in treatment? Is there intention to discriminate on the part of a host country?  -> One way in which the conflicting interests of policy makers with different national priorities may be reconciled is through exceptions in IIAs. Both pre and post establishment national treatments are generally subject to exceptions (Exceptions based on economic development concerns are particularly important for developing countries) -> help countries maintain flexibility in pursuing their development objectives through national FDI policies, while benefiting from participation in IIAs. 3.2 Nationalization, expropriation and other regulatory takings/ “creeping expropriation” (property takings) - 3 basic principles: public purpose, non-discrimination and compensation. However, there is no uniformity regarding the standard of compensation to be paid. From a development perspective, recent practice in IIAs suggests that developing countries try to strike a balance between offering reasonable protection to investors and retaining their right to regulate (= policy space). - Types of property takings: + Direct takings: involve the transfer of the physical possession of an asset as well as the legal title. + Indirect takings: do not involve the transfer of property rights, include: creeping expropriations & regulatory takings 3.3 Dispute Settlement (investor - host country) Offer the investor free choice between national and international dispute settlement. - Popular options for Investor – State Dispute Resolutions: Usually, a host country provides dispute settlement procedures and remedies as a part of the general law of the land (national procedure). → 1. Domestic Court (tòa án địa phương) But investors may, in some circumstances, prefer an internationalized approach to dispute settlement (international procedure), usually arbitration between an investor and a host country. This can be ad hoc, with a panel and procedure agreed between the investor and the host country. → Pre-agreed ad-hoc arbitration Or there may be an institutional system of international arbitration for the dispute in question: 2. ICSID – if both Host State and Home State are ICSID Members 3. ICSID Additional Facility – if only one State is ICSID Members 4. Arbitrations under UNCITRAL rules 5. Pre-agreed ad-hoc arbitration (thủ tục giải quyết tranh chấp được thỏa thuận trước bởi 2 bên) ICSID = International Centre for Settlement of Investment Disputes UNCITRAL = United Nations Commission on International Trade Law 3.4 Performance Requirements (mandatory requirements) - Definitions: Performance requirements are stipulations imposed on foreign affiliates to act in ways considered beneficial for the host economy. - Most common requirements: local content, export performance, domestic equity, joint ventures, technology transfer and employment of nationals.  - Their purpose is generally to induce TNCs to do more to promote local development – by raising local content, creating linkages, transferring managerial techniques, employing nationals, investing in less developed regions, strengthening the technological base and promoting exports. - Developing countries use performance requirements for a number of reasons, particularly because of their desire to promote infant industries and address balance of payments problems, and seek to preserve their right to use them. However, the incidence of the use of performance requirements by developing countries has also declined and there is a shift from mandatory requirements to requirements linked to investment incentives. - Characteristics: mandatory, creating inefficiency, deterring FDI - At the multilateral level, TRIMs (WTO): prohibits certain performance requirements considered trade distorting (những đầu tư làm bóp méo thương mại thì sẽ được quy định), including: + local content requirements (quy định về hàm lượng nội địa) → tước đoạt quyền được tự do lựa chọn vùng cung cấp của các nhà đầu tư → ảnh hưởng đến free trade. + trade-balancing requirements, + restrictions on foreign exchange inflows + export controls: export subsidy… The Agreement prohibits not only mandatory TRIMs but also those linked to an advantage. It applies equally to measures imposed on domestic and foreign enterprises. 3.5 Incentives - Purposes: + attracting new FDI, preventing relocation elsewhere, or + making foreign affiliates in a country operate in certain ways or undertake activities regarded as desirable. - 3 main types: + Financial incentives + Fiscal incentives + Other incentives - When considering incentives, governments need to take various cost-related aspects into account: + One risk is offering incentives to TNCs that would have invested anyway, so the incentive is a mere transfer of funds from governments to companies. + Using existing or future public resources for incentives reduces the opportunity for using them for other purposes, such as improving the infrastructure or training the workforce (location determinants that enhance the ability of countries to attract FDI). + Incentives give rise to administrative costs, which tend to increase as the discretion and complexity of schemes increase. + There could be potential efficiency losses if firms are encouraged to locate where incentive-based subsidies are most generous and not where location factors might otherwise be most favourable to an efficient allocation of resources. + Incentives may sometimes give rise to unintended distortions by discriminating, between firms that are relatively capital-intensive and those that are relatively labour-intensive, between projects of different cash-flow profiles or between large and small firms.  + Tax incentives may induce TNCs to use transfer pricing to shift profits to locations with the most generous tax conditions, eroding the tax base in several host countries. 3.6 Transfer of technology (tác động lên developing countries) - Technology diffusion = technology spread The transfer and use of new technology to the TNCs foreign affiliates is only one aspect of the contribution that FDI can make towards strengthening the technological capabilities of host countries. Another, often larger benefit is the diffusion of technology and skills to people and domestic firms within the host economy. Much of this diffusion takes place in the form of spillovers or externalities that arise involuntarily or result from actions deliberately undertaken to overcome information problems. Positive spillover effects leading to the diffusion of technology and skills from foreign affiliates to a host economy may occur through 4 channels: + Competition with local firms, stimulating foreign affiliates to improve efficiency and technological capabilities and raise productivity. + Cooperation between foreign affiliates and local suppliers, customers and institutions with which they have linkages, leading to information exchange and technical collaboration that enhance the technological capabilities of the linked local agents. + Labour mobility, particularly of highly trained personnel, from foreign affiliates to domestic firms including supplier firms set up by former TNC employees, often with the support of their former employers.  + Proximity between foreign and local firms, leading to personal contact, reverse engineering, imitation and the formation of industrial clusters facilitating technological upgrading in host countries. Once foreign affiliates establish linkages with local suppliers, they often invest in helping the latter upgrade their technological capabilities and skills. This generates positive spillovers to the extent that the capabilities of suppliers improve beyond the extent needed for supplying foreign affiliate operations. The best way to raise linkages between TNCs and local firms and thus, the prospects for positive spillovers is to strengthen the capabilities of local suppliers. - Technology generation and R&D internationalization in developing countries TNCs are often leading innovators. However, because R&D is a strategic function for them, TNCs tend to centralize R&D in their home countries and to locate it abroad only in a few other countries, mainly industrialized ones so as to reap economies of scale and linkages with technology and research centers. Developing countries attract only small shares of foreign-affiliate research and what they do attract is concentrated in a few countries and is related to production (adaptation and technical support) rather than radical innovation. The majority of developing countries do not have the research skills or institutions to make it economical for TNCs from developed countries to set up local R&D facilities. However, more developing countries and transition economies are now attracting R&D by TNCs, including some highly advanced R&D activities. A major factor driving this trend is the growing availability of educated and highly trained human resources in a number of developing countries. R&D internationalization opens the door not only for the transfer of technology created elsewhere, but also for the transfer of the actual process of technology creation. That means new opportunities for firms and institutions in developing countries to engage in important learning processes. It also creates new job opportunities for skilled engineers and scientists in the countries involved, helping to mitigate the risk of brain drain. → Policy implications: The transfer and diffusion of new and improved technologies and the strengthening of technological and innovatory capabilities are probably the most important contributions FDI can make to host-country development. - Policies to enhance technology diffusion by raising linkages between TNCs and local suppliers: (tech diffusion) + Encouraging technology alliances between local firms and TNCs by offering fiscal benefits for R&D or exploitation of its results; + Improving extension and training services to strengthen the capabilities of SMEs; + Developing backward linkage programmes between TNCs and domestic suppliers; + Providing venture capital to encourage TNC employees and others to establish enterprises that tap the skills and technologies developed by TNCs; + Adopting effective competition policies to stimulate efficient domestic competition; and providing or enhancing the performance of the technology infrastructure - Measures to encourage local R&D by TNCs: (tech generation)  + Encouraging contract R&D with local research institutions and universities; + Developing human resources for R&D in specialized disciplines by supporting local universities and other institutions of higher learning and adapting their curricula; + Developing university research labs and research institutes; offering incentives for foreign affiliates to obtain “product mandates” from parent companies and to undertake local R&D more generally; + Accelerating technology generation by enforcing intellectual property rights; and supporting local innovation systems through strategic planning regarding a country’s future technological development Measures to influence technology transfer: 1. Direct controls on technology transfer by host-country enterprises and on FDI have been implemented by many developing countries to influence the types, costs and conditions of technology transfer. → not succeed b/c not address: + The information and administrative requirements of technology regulation + The absorption and upgrading of imported technology 2. Stipulating greater local ownership, or requiring transfers. 3. Providing behavioural incentives 4. Strengthening intellectual property rights 3.7 Competition policy - Objectives: preserve and ensure the efficient allocation of resources in an economy → Đảm bảo sự canh tranh in fair-play environment. - Measures to regulate: restrictive business practices the abuse of dominant positions M&A 4. Investment promotion Main steps: + Investor targeting (Screening) + Investor communication: image building, investment generation + Investment facilitation and management of investor relationships 5. Good governance and investment promotion THEME 2: International rules on FDI 1. Concept, nature and types of IIAs - IIAs are agreements between States that address and regulate various issues related to international investment including FDI. - Affect 3 parties: foreign investor, home country, host country. - The terms “agreement” and “treaty” generally denote binding international instruments and the two terms will be used interchangeably. - IIAs usually focus on the treatment, promotion and protection – and sometimes liberalization – of international investment, especially FDI. Types of IIAs: - According to the number of countries involved, as well as the form of participation: + Bilateral: two parties + Plurilateral: a limited no. of parties + Multilateral: no limit on the no. of parties - With regard to substantive issues covered, IIAs can be classified: 1. International agreements dedicated exclusively or primarily to investment = “Pure” IIAs 2. Other international agreements that concern investment 3. Contracts between a State and a foreign investor (State contract) 2. Evolution and recent trends in IIAs BITs traditional key issues: Scope and definition of investment; Admission and establishment; National treatment; Most-favoured-nation treatment; Fair and equitable treatment; Compensation in the event of expropriation or damage to the investment; Guarantees of free transfers of funds;  Investor-State dispute settlement BITs - new key issues: Exception clauses, covering national security and public order, the protection of health, safety, the environment, and the promotion of core labour rights and cultural diversity. The “Right to Regulate”, Flexibility for development, Policy space corporate social responsibility Another trend is that countries are increasingly embarking on is the renegotiation of their existing treaties. They do so, when these treaties reach their expiration date or when countries seek to respond to changed economic and/or political circumstances. 3. International investment disputes Most BITs and IIAs provide that any dispute between States concerning the interpretation or application of a treaty which is not resolved through negotiations or consultations between the parties shall at the request of either party be submitted to an arbitral tribunal. Moreover, virtually all modern BITs – and other IIAs to the extent that they contain protection rules – also include specific mechanisms for the settlement of disputes between foreign investors and host countries. 4. The concept of national policy space The flexibility for governments to pursue development policies: based on the Right to Regulate, State sovereignty 5. The development dimension in IIAs  6. Ensuring coherence of national and international investment policies MODULE 3 THEME 1 - yushu (tr152) 1. Scope of application 2. Matter coverage: definition of investment Matter coverage: defines those assets to which the treaty ap plies ○ IIAs' definition of "investment" falls into three broad categories: Asset-based: includes all assets in the territory of one country owned by investors of another country. 5 categories of investments Movable and immovable property Various types of interest in companies: no control of the company Claims to money and claims under a contract having a financial value intellectual property rights Business concessions, including natural resources concession Enterprise-based: control over the enterprise Transaction-based: omit the reference to assets and include an enumeration of the transactions covered. For example: Creation, extension, and acquisition of full ownership; Participation; Loans over a certain duration 3. Subject coverage: definition of investors Subject coverage: the definition of investor commonly includes natural persons and legal persons (or juridical entities). Some IIAs refer to nationals  and companies, with the former defined to include native people and the latter described to include a range of legal entities. ○ Natural persons: Nationality (common practice): considered as an investor within the meaning of an IIA only if this person is a national of the treaty partner. Domicile or residence: a native person is considered as an investor within the meaning of an IIA if this person has his/her domicile or permanent residence in the territory of the treaty partner. ○ Legal entities: IIAs take three different approaches in order to determine the nationality of legal persons: Country of organization or incorporation: if it has been incorporated or organized in the territory of the treaty partner Cannot be changed easily → no doubt about nationality Link b/w the legal entity and the country of incorporation → probs when companies not engage in economic activities in that country Country of seat: if its effective management takes place in the territory of the treaty partner Country of ownership or control; if it is owned or controlled by a national of the treaty partner The definition of "own or control" in qualitative terms reflects the fact that effective control of a company is often exercised by shareholders who own less than half of the stock 4. Geographical coverage  Geographical coverage: Investments are covered by an IIA only if they take place in the territory of one of the States’ parties to an agreement 5. Temporal coverage Temporal coverage: determines the date of entry into force of the IIA and its duration ○ The application of the IIA to investments established prior to its entry into force: the most recent IIAs extend protection not only to investments that are made after the entry into force of the IIA, but also to those that are made before this date. Some IIAs, however, exclude this coverage to those disputes that have emerged before the entry into force of the agreement. ○ The application of the IIA after its termination to those investments which are made while the treaty is still in force: most IIAs usually include a clause that extends its protection from a period ranging from 10 to 20 years for investments made while the treaty is in force and will continue after its termination 6. Narrowing the scope of application Limitations to permitted investments under host country law: investments are covered only if they are made in accordance with the laws of the host country or if host State officials previously approve them; Limitations on time of establishment: exclude investments established prior to a certain date; Limitations on the nature of the investment: exclude certain types of investments, for example: portfolio investment, investments by public bodies or agencies; Limitation on the size of investment: provides coverage only to investments involving a certain minimum of capital; Limitation on the sector of the economy: a host country may wish to limit treaty coverage to investments in certain sectors of the economy.  7. EXERCISE 1. What types of definitions may an IIA provide, and what are their features? 2. What is included in the asset-based definition of investments? 3. In the asset-based definition of investments, is it possible to include other forms of investments, although they are not explicitly mentioned there? 4. What are the merits and possible shortcomings of the different definitions of an investment? 5. What are the main features of the investor definition in IIAs? 6. If a natural person has a double nationality (including the nationality of a non-treaty partner), can he/she claim treaty protection? 7. Imagine that a legal person, which has been established in country A and which is controlled by nationals of country B, makes an investment in country C. Which problem could arise in this case? 8. If an investment has taken place prior to the entry into force of a treaty, can the investor claim the protection of the treaty? Explain your answer. 9. If a dispute has arisen prior to the entry into force of a treaty, can the investor claim protection? 10. Give an example of cases where a country might have an interest in narrowing the scope of application of the treaty. 11. Taking into account the policies regarding investment of your country, draft a definition of investments and investors. THEME 2 - yushu 1. Concept of admission and establishment Right of admission deals with the entry and presence of foreigners in the territory of a host-country. It grants a permanent or temporary right to carry out business transactions in a host country, but does not necessarily include the right of establishing a permanent business presence.  Right of establishment deals with the rights of a foreign investor to establish a permanent business within the territory of a host country. This right is therefore narrower than the right of admission. National treatment (NT) can be defined as a principle whereby a host country extends to foreign investors treatment that is at least as favourable as the treatment that it accords to national investors in like circumstances. Most-favoured-nation treatment can be defined as a principle whereby a host country extends to foreign investors treatment that is at least as favourable as the treatment that it accords to other foreign investors in like circumstances. 2. Post-establishment approach The post-establishment approach is an application of the customary law principle that grants limit admission and establishment of foreign investments within their territories Under this approach national treatment is granted only after the establishment of a foreign investment within the territory of a host country. Consequently, IIAs do not accord positive rights of entry and establishment to foreign investors of the other contracting party. 3. Pre-establishment approach Pre-establishment rules provide clear and transparent provisions that increase predictability and reduce the degree of risk when entering a new market. Typically, they aim at avoiding discrimination between foreign and domestic investors and/or investors from different foreign countries Under this approach the host State limits its sovereign power regulating the entry of foreign investors and grants them full rights of admission and establishment based on whichever is better, national treatment or most-favoured-nation treatment. This is subject only to reserved list of sectors or activities to which such rights do not apply  EXERCISE 1. What is the difference between admission and establishment of a foreign investor? 2. What is the difference between the pre-establishment and post-establishment model? 3. Think of examples of cases in which the pre-establishment or the post-establishment model would be appropriate in an IIA. 4. Draft a provision on admission and establishment and explain it. 5. Practical exercise State A is a developed country in favor of liberalization. It follows a national treatment and most-favoured-nation treatment policy. State B is a developing country and is a member of a regional economic integration organization. State A is negotiating a BIT with State B. State A wants to include in the agreement pre-entry national treatment which would include the right of entry and establishment. However, State B wants to protect its natural resources and its social sector. As counselor for State B, draft the clause concerning the admission of investments. THEME 3 - yushu 1. Standards of treatment "treatment" refers to the legal regime that applies to investors and their investments. International law does not require host countries to grant them a higher standard of treatment than the generally recognised “minimum standard of treatment”. National treatment and most-favoured-nationvtreatment are known as contingent and relativevstandards. Contingent: the standard defines the contents of the treatment by reference to an existing national regime in the host country. As national regimes change over time, the content of the standard may also change.  Relative: the standard invites a comparison in the treatment accorded to foreign and domestic investors/other foreign investors. This makes a determination of its content dependent on the treatment offered by a host country to domestic investors/other foreign investors and not on some a priori absolute principle of treatment 2. National treatment National treatment can be defined as a principle whereby a host country extends to foreign investors treatment that is at least as favourable as the treatment that national investors in like circumstances receive. It seeks to ensure a degree of competitive equality between national and foreign investors and serves to eliminate distortions in competition resulting from discriminatory legal regimes or administrative practices. IIAs have defined the standard of national treatment in two main ways. One way requires a strict standard of equality of treatment between national and foreign investors. The other offers the possibility of granting more favourable treatment to foreign investors. Scope of application ○ The application of the standard depending on the stage of the investment process To all phases of an investment: it applies to both the pre- and post-entry stages of the investment process (pre-establishment approach); Only to the treatment of foreign investment after its entry: it applies only to investments after their admission to a host country (postestablishment approach). ○ The application of the standard to subnational levels: if the host subnational State offers preferential treatment to local investors and does not extend such treatment to  out-of-State investors, the foreign investor cannot invoke national treatment to obtain similar preferences. Exceptions to national treatment ○ General exceptions based on reasons of public health, order and morals, and national security – such exceptions are present in most regional and multilateral investment agreements, and also in a number of BITs. ○ Subject-specific exceptions which exempt specific issues from national treatment, such as intellectual property, taxation provisions in bilateral tax treaties, prudential measures in financial services or temporary macroeconomic safeguards. ○ Country-specific exceptions whereby a contracting party reserves the right to differentiate between domestic and foreign investors under its laws and regulations – in particular, those related to specific industries or activities – for reasons of national economic and social policy, country-specific exceptions may overlap with subject-specific exceptions. 3. Most-favoured-nation treatment most-favored-nation treatment can be defined as a principle whereby a host country extends to foreign investors treatment that is at least as favourable as the treatment that it accords to investors from another foreign country in like circumstances. MFN is a core element of IIAs. MFN treatment potentially applies to all kinds of investment activities, such as the operation, maintenance, use, sale or liquidation of an investment, and can be invoked with regard to any investment-related legislation. Scope of application  ○ Post-establishment model. The majority of BITs do not contain obligations concerning the admission of foreign investment. MFN is to be applied only after an investment has been made. ○ Pre-establishment model. This second model requires the application of the MFN standard in respect of both establishment and subsequent treatment of investment. The approach is followed by, for example, most BITs of the US, and some recent treaties made by Canada. Exceptions ○ General exception ○ Reciprocal subject-specific exceptions: Many IIAs comprise exceptions specifically addressing the MFN clause and based on reciprocity. The most frequent exceptions refer to taxation, intellectual property, regional economic integration organizations, mutual recognition, and other bilateral issues. ○ Country-specific exceptions 4. Fair and equitable treatment Together with the national treatment and most-favoured-nation treatment standards, the fair and equitable treatment standard provides a useful yardstick for assessing relations between foreign direct investors and governments of capital-importing countries. The planning approach: In this approach, the term “fair and equitable treatment” is given its plain meaning: hence, where a foreign investor has an assurance of treatment under this standard, a straightforward assessment needs to be made as to whether a particular treatment meted out to that investor is both “fair” and “equitable”. International minimum standard: The second approach to the meaning of the concept suggests that fair and equitable treatment is synonymous with the international minimum standard in international law.  EXERCISE 1. What are the major policy approaches regarding the national treatment provision? 2. What may be the rationale for excluding the NT provision from a BIT? 3. Imagine that country A gives a subsidy to a particular domestic investor in an investment contract, because it considers this investment as especially important. Could a foreign investor claim the same treatment under the NT provision? 4. Name the three types of exceptions to an MFN clause that IIAs might contain. 5. Explain the so-called “free rider” issue and list some of the features that characterize it. 6. Think of an example where a country would have an interest to take an exception to MFN treatment in an IIA. 7. What does the following affirmation mean:"fair and equitable treatment is a contingent standard"? 8. Briefly explain the difference between the “plain meaning” approach to the fair and equitable standard, and the approach that equates this standard to the “international minimum standard”. 9. Taking into account your country policies regarding investment, draft a definition of treatment. 10. Think of an example where a foreign investor is treated in an unfair manner. THEME 4 - yushu 1. Taking of property The taking of property by governments can result from legislative or administrative acts that transfer title and physical possession. Takings can also result from official acts that effectuate the loss of management, use or  control, or a significant depreciation in the value, of assets. Generally speaking, the former can be classified as “direct takings” and the latter as “indirect takings”. In customary international law, there is authority for a number of limitations or conditions that relate to: The requirement of a public purpose for the taking; The requirement that there should be no discrimination; The requirement that the taking should be accompanied by payment of compensation; The requirement of due process. 2. Transfer of funds The primary purpose of a transfer provision in an IIA is to set forth a host country’s obligation to permit the payment, conversion and repatriation of the funds that relate to an investment. Scope of the general obligation ○ With respect to the different types of investments, if an agreement only covers inward investment (i.e. investment made in the host country by investors of foreign countries), the transfers covered typically include funds that are needed to make the initial investment by the foreign investor and the proceeds of any such investments, including profits and the proceeds of any sale or transfer. ○ However, if an agreement also covers outward investment (i.e. investment made in other countries by nationals or residents of the home country), it typically also covers funds needed by such nationals to make an outward investment. The requirement to allow for outward transfers by both foreign investors and the country’s own investors  (which are provided for in some multilateral agreements) can have important foreign exchange implications for the host country. Exceptions The principal economic derogation provisions can be divided into two categories: The first sets forth the conditions under which a host country can impose new restrictions on a temporary basis for reasons relating to balance of payments and macroeconomic management – temporary economic derogation. The second category permits the host country to maintain existing restrictions that would otherwise not be permitted, on the grounds that the economy of the host country is not yet in a position to eliminate these restrictions – transitional provisions. Example 1. What are the different types of takings, and what are their characteristics? 2. Explain the meaning of the term“creeping expropriation” and give an example. 3. Cite and explain the requirements of a taking to be legal under international law. 4. Cite and explain the different standards of compensation and their policy implications. 5. What kinds of transactions are covered by the transfer of funds provision? 6. Name the two possible types of derogation provisions that could be introduced into a transfer clause. 7. Indicate the conditions that restrictions to the free transfer of funds have to fulfil. 8. Discuss the pros and cons of a transfer restriction from the viewpoint of the host country. 9. Taking of Property Indicate which category of takings where the following examples belong to: Nationalization; Expropriation (specific taking); Creeping expropriation; Regulatory measure  Country A passes a Banking Regulation Act ordering the taking of 12 private banks partly owned and managed by foreign investors. The taking is said to be inevitable for economic reasons. Country B passes a law prohibiting the import and the production of certain chemical substances for environmental and health reasons. Company X, owned by a foreign investor, uses these substances in its production of goods. Country C takes 1500 square metres of land from the foreign investor Y to build a new track for the national railway. Country D passes a law determining that each company of a certain size that is owned by non-nationals must have one or more representatives appointed by the Government to its board of management. THEME 5 - yushu 1. State-state disputes: State-to-State (or “inter-State”) disputes in IIAs can arise directly between the signatories of the agreement, or between investors represented by their home States and the host States. the most common issues in IIAs concerning dispute settlement are the following: ○ The scope of disputes that could trigger dispute settlement arrangements (DSAs); ○ The procedures governing dispute settlement mechanisms; Negotiations and consultations; Ad hoc inter-State arbitration, which is most prominently featured in IIAs; Permanent arbitral or judicial arrangements for dispute settlement;  Political or administrative institutions whose decisions are binding. ○ The applicable standards for the settlement of disputes; ○ The nature and scope of outcomes of dispute settlement mechanisms; ○ The compliance with dispute settlement awards. 2. Investor-state disputes Traditionally, dispute settlement under international law has involved disputes between States. Under customary international law, a foreign investor is required to seek the resolution of such a dispute in the tribunals and/or courts of the country concerned. Should these remedies fail or be ineffective to resolve a dispute – be it that they lack the relevant substantive content, effective enforcement procedures and/or remedies or are the result of denial of justice – an investor's main recourse is to seek diplomatic protection from the home country of the individual or corporation concerned. The most common issues in IIAs concerning investor-State disputes settlement are the following: ○ The type of arbitration: ad hoc or institutional; ○ The procedure to initiate a claim; ○ The procedure to settle a claim; Example 1. What are the most common mechanisms to the settlement of disputes between States? Explain them. 2. What laws, standards or principles are to be applied to the matters in dispute? 3. What is the nature of the award in an arbitral settlement of disputes between States? 4. What are the most common mechanisms in the settlement of disputes between States and Investors, and how does it relate to diplomatic protection? 5. Explain the main features of the ad hoc arbitration mechanism in the case of investor-State disputes. 6. Describe the main elements of an institutionalised arbitral procedure in investor-State settlement of dis- putes. 7. Imagine that an investor from a country A has succeeded in an international investment dispute against country B. Country B refuses to recognize the award.What options does the investor have? THEME 6 THEME 7 THEME 8 MODULE 4: Interaction between IIAs and other areas Some issues that are not traditionally regulated by IIAs: ○ Issues that are directly concerned with the definition of foreign investment Service: WTO's General Agreement on Trade in Services sets international guidelines for national service policies and interacts with FDI by regulating how foreign services are provided through commercial presence in host countries. This means foreign companies investing in another country to provide services must comply with the rules set out by GATS. State contracts: regulation of State contracts is of relevance to IIAs, as it often forms the legal basis of the relationship between a foreign investor and a host country.  Intellectual property rights: Currently, investment definitions in most IIAs include all kinds of intellectual property rights. ○ Issues that affect investment performance Competition: Competition issues are usually dealt with in a specialized instrument rather than a general IIA. Technology transfer Corporate governance ○ Issues that are increasingly included in recent IIAs Employment: to avoid the relaxation of labour standards as a strategy to attract foreign direct investment (social dumping) Environment: to avoid the relaxation of environmental standards as a strategy to attract FDI. THEME 1 (Yến Linh): Investment and services Introduction: WTO General Agreement on Trade in Services set the parameters for national policies on services through interaction between national and international policies on foreign direct investments in services. This interaction can either be led by autonomous liberalization or driven by IIAs. While IIAs and autonomous liberalization create an enabling framework for FDI, the former also limit national policy space. Handbook: 1. Explanation of the issue  GATS has 6 parts: ○ Part I: sets out the scope and definition of the agreement ○ Part II: deals with general obligations and disciplines, that is, with rules that apply, for the most part, to all services and all members ○ Part III: sets out rules governing the specific commitments in schedules ○ Part IV: concerns future negotiations and the schedules themselves ○ Part V and VI: cover institutional and final provisions Modes of services supply ○ Mode 1: Cross-Border Supply of Services - Only the service itself crosses national frontiers. Buyer and seller do not cross national frontiers. ○ Mode 2: Consumption Abroad - This concerns the consumer travelling to the supply country. Only the buyer crosses national frontiers. ○ Mode 3: Commercial Presence - The supply of a service through the commercial presence of the foreign supplier in the territory of another member. This mode commonly requires a foreign direct investment. → This is important in the context of IIAs because it also implies an investment in the territory where the service will be supplied. ○ Mode 4: Presence of Natural Persons - Admission of foreign nationals to another country to provide services there. 2. Services and IIAs  Most RTAs have treated investment in services as conceptually different from investment in other sectors. IIAs and autonomous liberalization facilitate FDI but IIAs limits national policy space. Services regulation in the context of RTAs has solved this in two different ways: ○ Negative list approach: a "top down" method where all sectors are free of restraints unless exceptions are listed. It guar